Those who cannot remember the past are, as the Spanish novelist George Santayana wrote, condemned to repeat it.

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That’s a mistake the Royal Bank of Scotland has certainly been guilty of making – the heady rise and precipitous fall of its investment banking ambitions eerily echo those of NatWest, which it bought in 2000. And it is a mistake that the bank, even now, is in danger of making again.

Amid the discussion about the UK bank’s strategic review, “a return of NatWest” has become shorthand for RBS’s supposed withdrawal from many investment banking activities and focus on UK retail and corporate clients. Such an analysis is, at the very least, overly simplistic.

NatWest housed an extremely ambitious investment bank and RBS – even after the restructuring announced last Thursday by chief executive Ross McEwan, which will result in seven operating divisions being collapsed into just three and a sharp reduction in risk-weighted assets – will also still engage in many investment banking activities. The key question now is: what happens next?

Déjà vu all over again

“At the end of 1996 NatWest had good claims to be the leading UK investment bank,” writes Philip Augar in The Death Of Gentlemanly Capitalism. But, within a year, those claims crumbled. NatWest’s annual report for 1997 highlights both the extent of the firm’s investment banking ambitions and the problems the unit was causing.

At that point NatWest Markets accounted for roughly 8.3% of the bank’s headcount (the markets division at RBS accounted for 8.2% of all the bank’s employees at the end of 2012) and 22.6% of the group’s risk-weighted assets (the markets division at RBS accounted for 22% of group RWAs at the end of 2012).

Between 1995 and 1996, NatWest spent more than £1 billion building up its investment banking franchise, according to Augar. It bought Gleacher & Co in the US and Hambro Magan in the UK to try and break into M&A, and acquired Greenwich Capital, a US fixed-income broker.

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But the attempt failed. Its Achilles heel, as for many banks since and no doubt in the future, was rates. In February 1997, the bank revealed that a trader had been mispricing interest rate options, resulting in a £90.4 million loss. Things quickly spiralled out of control thereafter. NatWest’s annual report for that year is remarkably candid: “NatWest Markets had an awful year in 1997”, making a loss before tax of £706 million.

The expansion plan lost the support of both board and shareholders and quickly went into reverse. NatWest decided to reduce risk-weighted assets (as has RBS), to sell its equities business (as has RBS) and to restructure what remained (as has RBS – repeatedly).

In August 1997, NatWest Markets was split in two – separating its investment banking activities and wholesale corporate banking operations. One half was named global financial markets and comprised foreign exchange, money markets services, currency derivatives and interest rate trading. The other half was reorganised around Greenwich Capital and rebranded Greenwich NatWest. It included debt capital markets, fixed-income trading, risk management and trade, project and lease financing.

Nearly two decades on, these are roughly the same investment banking activities that RBS retains, having already wound down cash equities, equity capital markets, M&A and corporate broking.

This does not now, as it did not then, constitute a complete retreat from investment banking. But it is a return to basics – the barebones capability required for servicing corporate clients.

History teacher

What lessons can be learnt from similarities between the rise and fall of the investment banks at NatWest and Royal Bank of Scotland? And what does NatWest’s past say about the future of RBS? First, the empirical evidence – when you weigh all the firms that have tried to make it in global investment banking against all those who have done so – strongly suggests that failure is more likely than success.

Second, to have even half a chance of making it you need the shareholders on board. McEwan’s predecessor at RBS, Stephen Hester, believed a strong, global investment bank would help RBS return to profitability and private ownership. The UK government with its 82% stake is widely understood to have disagreed.

Third, a single rogue trader can scupper even the best-laid plans. Augar writes that NatWest’s investment banking strategy was “much closer to working than has generally been realised”. But the loss fed doubts about Martin Owen, the chief executive of NatWest Markets, and ultimately cost him his job.

Fourth, interest rates trading is the cornerstone of any investment bank – even one as pared back as RBS’s. But it can just as easily become the worm in the bud. It has greater potential to cause problems than many of the investment banking capabilities that RBS has shed. McEwan, a retail banker by training, would be well advised to ensure he understands and closely monitors what his rates traders are doing.

Fifth, investment banking is volatile. This makes it a dangerous business to be in during the bad times but, equally and often forgotten (especially at this point in the cycle), a dangerous business to be out of in the good times.

Having downgraded its ivestment banking ambitions, NatWest floundered. In 1999, it tried to merge with Legal & General, and when that failed, became a takeover target for the Royal Bank of Scotland. The rest, as they say, is history.

RBS is not a very likely takeover target (to say the least). But is the bank, with the UK government’s blessing, again repeating NatWest’s mistakes and adopting a strategy that ensures it slips slowly but surely into irrelevancy? Politicians, quite understandably, just want the bank privatised. But what then?